Reluctant Suez Ponders Water Sale to Save GDF Deal

The head of French utility Suez on Thursday confirmed a possible sale of its historic water assets had been dragged into talks with the French state and Gaz de France to salvage a merger agreement.

But Gerard Mestrallet added that it was not certain Suez would accept the sale -- which would solve a political problem caused by differences in value between the two groups that point to a politically unacceptable cash windfall for Suez investors.

The government aims at a merger of equals between the private utility and the state-controlled gas giant GDF.

Mestrallet added that Suez was prepared to go it alone if the merger with Gaz de France failed.

"We are ready for two scenarios: going ahead with this project but also continuing our 'standalone dynamic' strategy in case the conditions for an agreement are not reached."

Asked whether a sale of the environmental activities was on the cards, Mestrallet said, "That is part of the modalities which I will not talk about."

Pressed to say at a news conference whether he had changed his mind on the issue, he said, "You cannot deduce that from what I have said."

The merger was presented by a previous centre-right French government 18 months ago amid rumors of a pending bid for Suez by Italy's Enel .

Efforts to an end an impasse over valuations blocking the 18-month-old merger plan have reached the office of French President Nicolas Sarkozy.

With Suez shares now around 5 euros above GDF's share price, analysts have suggested Suez will have to slim down by shedding its water and waste businesses and using the cash to pay an extraordinary dividend to its shareholders.

Suez has repeatedly opposed the move and was reported on Tuesday to have written to Sarkozy to propose an alternative way to resolve the impasse which threatens the 90 billion euro deal.

Gaz de France chairman Jean-Francois Cirelli on Wednesday urged Suez to make 'the necessary steps' for a merger. Both Suez and GDF have asked the European Commission to extend a Friday deadline for a merger deal as part of an approval process.

Profits Up

Suez also reported higher half-year operating profits, lifted by strong electricity prices and new water contracts.

Suez posted half-year current operating income of 2.787 billion euros, up from 2.376 billion euros ($3.23 billion) in the first half of 2006, and in line with the 2.788 billion average forecast in a Reuters poll of 12 analysts.

At mid-session, Suez shares were 0.4% higher at 39.1 euros, outpacing both France's CAC 40 blue-chip index index and the European utilities sector.

"Suez published a decent set of first-half results, which was slightly better than anticipated," said analyst Koen Dierckx at KBC Securities.

Net income was 1.854 billion euros, down from 2.170 billion in the absence of one-off items -- mainly capital gains from disposals -- which had bolstered the bottom line in 2006.

Suez repeated a forecast for a rise of more than 10% in core earnings and current operating income growth above 15% in 2007, and unveiled new medium-term targets.

It said it expected to earn more than 10 billion euros in earnings before interest, tax, depreciation and amortization (EBITDA) by 2010, and invest over 20 billion euros while maintaining a double-digit return on capital employed.